Improved Earnings Required Before Victoria's Secret & Co. (NYSE:VSCO) Stock's 28% Jump Looks Justified

Victoria's Secret & Co. (NYSE:VSCO) shareholders are no doubt pleased to see that the share price has bounced 28% in the last month, although it is still struggling to make up recently lost ground. While recent buyers may be laughing, long-term holders might not be as pleased since the recent gain only brings the stock back to where it started a year ago.

Even after such a large jump in price, Victoria's Secret's price-to-earnings (or "P/E") ratio of 10.6x might still make it look like a buy right now compared to the market in the United States, where around half of the companies have P/E ratios above 18x and even P/E's above 32x are quite common. Nonetheless, we'd need to dig a little deeper to determine if there is a rational basis for the reduced P/E.

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With earnings growth that's superior to most other companies of late, Victoria's Secret has been doing relatively well. One possibility is that the P/E is low because investors think this strong earnings performance might be less impressive moving forward. If not, then existing shareholders have reason to be quite optimistic about the future direction of the share price.

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Is There Any Growth For Victoria's Secret?

The only time you'd be truly comfortable seeing a P/E as low as Victoria's Secret's is when the company's growth is on track to lag the market.

If we review the last year of earnings growth, the company posted a terrific increase of 50%. Despite this strong recent growth, it's still struggling to catch up as its three-year EPS frustratingly shrank by 72% overall. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

Turning to the outlook, the next three years should bring diminished returns, with earnings decreasing 5.6% each year as estimated by the ten analysts watching the company. With the market predicted to deliver 10% growth each year, that's a disappointing outcome.

In light of this, it's understandable that Victoria's Secret's P/E would sit below the majority of other companies. However, shrinking earnings are unlikely to lead to a stable P/E over the longer term. Even just maintaining these prices could be difficult to achieve as the weak outlook is weighing down the shares.

The Key Takeaway

The latest share price surge wasn't enough to lift Victoria's Secret's P/E close to the market median. It's argued the price-to-earnings ratio is an inferior measure of value within certain industries, but it can be a powerful business sentiment indicator.

As we suspected, our examination of Victoria's Secret's analyst forecasts revealed that its outlook for shrinking earnings is contributing to its low P/E. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. It's hard to see the share price rising strongly in the near future under these circumstances.

Before you settle on your opinion, we've discovered 2 warning signs for Victoria's Secret that you should be aware of.

If these risks are making you reconsider your opinion on Victoria's Secret, explore our interactive list of high quality stocks to get an idea of what else is out there.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.